Business Valuation Resources legal editor Sylvia Golden interviews Sanford K. Ain and Stuart Rosenberg on using prenuptial agreements to protect a business.
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Sylvia Golden: How would you advise a client who is a lawyer to protect him or herself ahead of time against the complex evaluations and financial problems that arise in a contested divorce?
Ain: There are several things that lawyers and business owners can do to protect themselves in the event of a divorce involving their law firm or business. The first thing is to consider a prenuptial agreement before they get married; prenuptial agreements are widely recognized in the United States, are rarely set aside, and are very effective in protecting businesses and law firm interests as a separate property.
When clients come to you in a divorce situation, how many of them have a workable prenuptial agreement?
Ain: At this point, it’s a relatively small percentage; however, if I’m still practicing 10 years from now and you ask me that question, my answer will be considerably different. Many more people are using prenuptial agreements today than they did 10, 15, or 20 years ago. When I started practicing 42 years ago, it was rare to do a prenuptial agreement. Then we started doing them in the case of second or third marriages, and generally for older people. Today, we’re doing more prenuptial agreements than any other kind of agreement in the family law context. They are very, very common. In 10, 15, or 20 years, you’ll see a much greater percentage of people getting divorced with prenuptial agreements than we do today.
Do the young entrepreneurs in the high-tech sector have something to do with the rise in prenuptial agreements?
Ain: I do prenuptial agreements all the time for young entrepreneurs, not only in the high-tech sector, but also in other areas where they have been successful. In some cases, they’re starting businesses or start-up companies and are concerned that they will become successful. At the time they get married, all they have is their interest in a business – which may be a shell of a company. However, they want to know that if it becomes successful, it will remain intact and they won’t risk damaging their personal ability to continue that business in the event of divorce. Prenuptial agreements are very common today, particularly among entrepreneurs.
Interesting. Did you want to add anything about the protection that people should make ahead of time?
Ain: Once people are married, the next thing that we see them considering is their employment agreements or – in the case of professionals – their partnership, shareholder, or operating agreements for their companies. Goodwill is an important component of an evaluation. Many firms have hired me to review agreements among their partners or shareholders to minimize the likelihood that, in the event of divorce of any of the partners in the business, the spouse would be able to recover significant sums in excess of what the principal would receive in the event of their departure from the firm. Looking at business agreements is another way that people are protecting themselves. I’m sure Stuart will want to add to that.
Rosenberg: The more reasonable the provisions of the agreement, the more likely that it’s not going to be set aside. I’m not a lawyer, but the cases I’ve read seem to reflect that the agreements are set aside when there is abuse in the case of divorce or even if there’s a contemplation of divorce. The number-one thing that owners of any business – and especially lawyers – should do to protect themselves in maintaining records. Nobody wants to keep records, because they never think that they’re going to get divorced. However, to the extent that you can establish what your earning capacity was when you got married, as well as your education, training, and experiences, and have that contemporaneously maintained, the easier it is somewhere down the road to show that that would be one of the reasons why the value should be considered personal goodwill or a separate asset.
What are the limitations of a prenuptial agreement or an employment agreement? What should clients know about the limitations of protection that they can take ahead of time?
Ain: Following the adoption of the Uniform Premarital Agreement Act by the majority of U.S. states in recent years, prenuptial agreements are routinely enforced. The requirement for a prenuptial agreement is that there be full disclosure of assets or a waiver of disclosure and, in some jurisdictions, the agreement has to be held to be a conscionable agreement: that is, it is not so patently unfair to the economically-dependent spouse as to shock the conscience. Prenuptial agreements are highly likely to be enforced if those standards are met. Employment agreements, operating agreements, or shareholder agreements are not binding on the court. Rather, they’re one factor for the court to consider in the context of the business evaluator’s findings. While a shareholder agreement is binding on the shareholder, it is not binding on a court in a divorce case. A judge may find that while a shareholder may be entitled to X dollars upon leaving the business or the firm, notwithstanding that the judge may find the value to the shareholder is X times two or X plus some additional amount. Those agreements are not binding on the court, and that’s a significant limitation.
Rosenberg: In both of the jurisdictions in which I spend most of my time operating and working (Maryland and Virginia), the case law says that agreements are just an indication of value. Oftentimes, they are the best indication of value. In certain cases and circumstances, they have not been found to be the controlling instrument for value, but they are often the best indication of value.
Read the first part of this interview on other business valuation issues, especially when representing a lawyer who is going through divorce. Click Here.
Sanford (“Sandy”) K. Ain is a principal and co-founder of Ain & Bank. He has practiced family law for more than 40 years and has successfully resolved some of the most notable and complex family law cases in the country. He is a frequent lecturer, speaker, and panelist on family law issues throughout the country.
Stuart A. Rosenberg is a partner in Aronson LLC’s Forensic & Valuation Services group. An expert who has spent more than 30 years in the industry, Stuart specializes in litigation support services, including valuations of closely-held businesses, financial analysis and investigations, and related expert testimony and forensic support services.
Sylvia Golden is the Legal Editor at Business Valuation Resources. She prepares the monthly litigation updates and writes articles for Business Valuation Update on cases that discuss expert testimony and financial evidence; in addition, she contributes to BVWire and co-hosts a regular case law discussion for BVR.